SBA - rollover equity (preferred) vs. equity award (w/ vesting)?
August 03, 2023
by a searcher from Indiana University, Bloomington/Indianapolis - Kelley School of Business in Chicago, IL, USA
Hi folks,
I'm considering a few deal structures with a potential seller. Below are two structures/features that I'm contemplating, and I'm wondering if anybody has knowledge of how these would work with an SBA loan? I've received guidance from a few loan officers and it's clear to me that they don't have a firm grip on whether these are allowed (they think "no", but can't say definitively). Any insight would be greatly appreciated!
Option 1: $7m Enterprise Value ($4m debt + $1m seller rollover + $2m equity from buyer). Seller rollover would consist involve the seller receiving Preferred Equity (redeemable, does not participate in the common equity). So at time of subsequent exit, the top of the waterfall would be debt, then then preferred holders, then finally the common. Is this permitted under the new SOP?
Option 2: $6m Enterprise Value ($4m debt + $2m equity from buyer). At closing, I would like to be able to issue the Seller a stock award in the NewCo that vests sometime in the future (either time based or performance based - TBD). Is this allowed? I know this sounds similar to an typical earnout, but this would be an equity award that is in fact granted at time of close. Whether or not it vests in the future would be subject to various conditions. Is this allowed?
Any thoughts or guidance would be very much appreciated! Thanks everyone!
from Eastern Illinois University in 900 E Diehl Rd, Naperville, IL 60563, USA
The new SBA rules for a partial buy-outs require the buyer to purchase a stock or membership interest in the existing entity, and that entity needs to be the borrower on the loan. So in essence the seller retains an ownership interest in the company. You cannot do an asset purchase and do a seller roll-over of equity as the rules stand today, and I have not heard that those rules are going to change.
If you do an asset purchase and a full buy-out, the seller is not allowed to have any ownership in the new operating entity. The seller needs to be fully bought out and cannot have more than a one-year employment contract.
If the seller stays in on a partial business purchase, if there ownership interest is 20% or greater they are required to fully guaranty the loan. If their ownership is less than 20% it is not yet 100% clear if they will be required to sign a personal guarantee or not. There is some inconsistent language in the new SOP that the SBA is supposed to be clarifying but that clarification has not come out yet. Ultimately I think it is likely sellers retaining less than a 20% ownership interest will not have to guarantee the loan as it appears this was the original intent and I do not think many partial business acquisitions will get done if that is not the case, but until the SBA clarifies the rules we will not know for sure.
I hope this information helps. I would be more than happy to discuss your specific situation at any time. You can reach me here or directly at redacted Good luck!
from Drexel University in Philadelphia, PA, USA
I believe the paragraph below is what makes the new rules not attractive to the seller. They might be required to guarantee the loan.
From page 67 of the SOP
Document available here: https://www.sba.gov/document/sop###-###-#### lender-development-company-loan-programs
Reducing Ownership Interest: Any Person (as defined in 13 CFR###-###-#### subject to the guaranty requirements 6 months prior to the date of the loan application would continue to be subject to the requirements even if that Person has changed their ownership interest to less than 20%. The only exception to the 6-month rule is when that Person completely divests their interest prior to the date of application. Complete divestiture includes divestiture of all ownership interest and severance of any relationship with the Applicant (and any associated Eligible Passive Company) in any capacity, including being an employee (paid or unpaid).